Note: This guide will be updated for the 2014/15 tax year in May.
A comfortable retirement
Laying the foundations for financial security
Research shows that an increasing number of individuals are failing to put away sufficient funds to enable them to retire at the time and in the manner of their choosing. With the UK facing ongoing economic challenges, and many pension schemes remaining underfunded, a significant proportion of Britons face the prospect of continuing to work well beyond the state pension age.
While retirement may not currently be high on your priority list, you should take steps now to ensure that you will have the freedom and the means to achieve a comfortable retirement when the time comes. You could spend a third of your life as a retired person, and by taking action now, you can help to make this period as financially secure as possible.
Your retirement planning strategy
Your retirement planning strategy will be determined by a number of factors, including your age and the number of years before retirement. However, there are some other key issues to consider:
- Do you have a company pension scheme?
- Are you self-employed?
- How much can you invest for your retirement?
- How much state pension will you receive?
You can request a State Pension statement (formerly known as a State Pension forecast) by logging on to the Gov UK website: www.gov.uk/browse/working/state-pension.
However, relying on your state pension, which this year is just over £9,000 for a married couple, is an unrealistic proposition at best.
The overall lifetime limit on tax-advantaged pension funds is £1.5m (2013/14) reducing to £1.25m from 6 April 2014. There is to be protection for those who have more than £1.25m but no more than £1.5m at that date. There is a tax charge for fund values in excess of the ‘lifetime allowance’ at retirement, and for excess contributions or increases (set at £50,000 in a pension input period (PIP) ending in 2013/14 reducing to £40,000 from 6 April 2014).
There are two kinds of company pension scheme, into which you and your employer may make contributions. A defined benefit scheme pays a retirement income related to the amount of your earnings, while a defined contribution scheme instead reflects the amount invested and the underlying investment fund performance. In both cases, you will have access to tax-free cash as well as to the actual pension.
The impact of the early-noughties stock market downturn was one key factor that resulted in many final salary schemes being underfunded and a decision was taken by many firms to close such defined benefit schemes. Many experts consider that this type of scheme will cease to exist over the next few years, as a result of the current situation. Where companies do provide company pensions these are now almost always defined contribution schemes.
Those already in company pension schemes should be aware that the rate at which personal contributions can qualify for tax relief is now limited to the greater of £3,600 and total UK relevant earnings, subject to scheme rules.
Compulsory workplace pensions
In order to encourage more people to save for their retirement, the Government is introducing compulsory workplace pensions for eligible workers. The changes are being phased in between 2012 and 2018 (starting with larger employers).
All employers will have to enrol automatically all eligible workers into a qualifying pension scheme or NEST (National Employment Savings Trust), a simple low-cost, opt-out pension scheme that is being introduced by the Government.
There will ultimately be a minimum overall contribution rate of 8% of each employee’s qualifying earnings, of which at least 3% must come from the employer. The balance is made up of employees’ contributions and associated tax relief.
Those employees with, or considering, lifetime allowance protection may wish to think about opting out of auto enrolment to avoid the protection being invalidated by further pension contributions.
Private pension schemes
If you are not in a company scheme, you should make your own arrangements, since relying on the state pension is already questionable, and will become more so with each passing year.
In response to poor performances from pension fund managers, some retirement savers have switched their pension savings into Self Invested Personal Pension policies (SIPPs) – a form of personal pension plan which gives the investor more control over how the funds are invested.
To qualify for income tax relief, investments in personal pensions are limited to the greater of £3,600 and the amount of your UK relevant earnings, but subject also to the annual allowance (£50,000 for 2013/14 reducing to £40,000 from 2014/15) in all years.
Where pension savings in any of the last three years’ PIPs were less than £50,000, the ‘unused relief’ carries forward, but you must have been a pension scheme member during a tax year to bring forward unused relief from that year. However, please note that where premiums in one year are less than the annual allowance, followed by premiums exceeding the annual allowance in a later year, the unused relief carrying forward is reduced.
Case Study 6
Sean invested £20,000 in his pension policy in the PIP ending in 2010/11, £60,000 in the 2011/12 PIP and £20,000 in the 2012/13 PIP.
He can carry forward to 2013/14 £20,000 of unused relief from 2010/11 and £30,000 from 2012/13.
Sean’s maximum pension investment is therefore set at £100,000 for his 2013/14 PIP.
Note that the annual allowance charge will claw back all tax relief on premiums in excess of the maximum. Where the charge exceeds £2,000, arrangements can be made for the charge to be paid by the pension trustees and recovered by adjustment to policy benefits.
Where pension savings exceed the £1.5m lifetime allowance at retirement (and fixed, primary or enhanced protection is not available) a tax charge arises:
Tax charge (excess paid as annuity)
Tax charge (excess paid as lump sum)
25% on excess value, then up to 45% on annuity
55% on excess value
Premiums on personal pension policies and stakeholder pensions are payable net of basic rate tax relief at source, with any appropriate higher or additional rate relief usually being claimed via the PAYE code or self assessment Tax Return. See Case Study 7 below for an example of this.
You will normally have selected one fund, or a spread of funds, for your pension savings. Would a switch give you more security or the scope for more growth?
Case Study 7
Fiona will earn £60,000 in 2013/14. She will invest £12,500 into her personal pension policy. She claims only the basic personal allowance and has no other income.
Fiona will pay her pension provider a premium, net of basic rate tax relief of £10,000. She is also entitled to higher rate tax relief on the gross premium, amounting to £2,500.
As Fiona is an employee, we can ask HMRC to give the relief through her PAYE code. Otherwise, we would claim in Fiona’s 2014 Tax Return. Thus the net cost to Fiona of a £12,500 contribution to her pension policy is just £7,500.
Stakeholder pension policy providers are required to accept premiums of a minimum of £20 per month, although some will accept less.
Providers must meet a number of ‘standards’, including a cap on charges – for new policies of 1.5% per annum for the first ten years, then 1%. Additional premiums are subject to the same rules as for personal pension policies. Stakeholder premiums can be paid on behalf of another person – for example, by a grandparent for an infant grandchild.
Unlike personal pension providers, most retirement annuity providers – personal pension schemes set up before July 1988 – do not offer a ‘relief at source’ scheme whereby they claim back tax at the basic rate.
Instead we claim the tax relief you are due through your self assessment Tax Return, or if you do not complete a Tax Return by contacting HMRC on your behalf.
Two strategies to boost your finances
Although they might not suit everyone, there are at least two ways to boost your retirement finances, through your home. The first option is down-sizing – selling your current home and buying something cheaper, to release value tied up in your property for other purposes.
If you do not wish to move from your current property, ‘equity release’ might be an alternative approach. However, you should discuss all of the implications with us and your other financial advisers before deciding whether this is a suitable avenue to take.
The earlier you begin planning for your retirement, the more chance there is of it being financially comfortable. The sooner you start saving, the more chance you will have to accumulate the funds you need.
In today’s financial climate, your investments will need time to grow, so whether you choose to focus on pension savings, alternative savings and investment strategies, or a combination of both, start planning today.
Follow-up – Contact us about…
- Working out how much you need to save to secure a comfortable retirement
- Tax-advantaged saving for your pension
- Saving in parallel to provide more readily accessible funds
- Saving in company and personal pension schemes
- Investing in a SIPP for more control over your savings
- Investing in stakeholder pensions
- Using your business to help fund your retirement
- Freeing capital now tied up in your home to help fund your retirement